COVID-19 and How The Canadian Government is Failing Small and Mid-Size Businesses

Last week, over 500,000 Canadians applied for unemployment insurance (EI) - which is a 1,751% increase over the same week of last year. To put this in perspective, this is roughly the same amount that applied for EI throughout the entire 2009 financial crisis and comparable to that of the great depression. While we have already seen massive layoffs, businesses closing their doors at an alarming rate and the highest single week spike in unemployment insurance applications within the history of our great nation – unfortunately this is just beginning. With a mandated lockdown of all but essential services, this nightmare is just getting started. A modern version of the great depression may soon be upon us.  

While it is without question that the medical needs of our citizens come first, very close second priority should be the health of the economy. Amidst all of the chaos however, the Canadian Government is offering platitudes, little assurance and band-aid solutions, which will effectively kill small to mid-size businesses (SMEs). 

When SMEs Go Under - The Problem 

SMEs are the foundation of the private sector. They pay the vast majority of tax revenues for this country via taxation of the businesses themselves, and the people whom these SMEs employee. Approximately 69% of the 7.7 million employees in the Canadian private sectors are employed by SMEs. Within those SMEs, 55% of them have less than four employees. These companies are the corner stores in your small town, the restaurants, hair salons, personal services, yoga studios, small builders, mechanics, local retailers and light manufacturers and etc. We all know them and have friends and family that rely on them to keep the lights on, and put food on the table. 

Contrary to public opinion, SMEs are generally not sitting on piles of cash. A survey of 600,000 SMEs done by JP Morgan Chase found that 25% of SMEs have less than two weeks of cash on hand, and that 50% have less than a month before they run completely out of money. As a result of COVID-19 (and the required self-isolation and social distancing that has accompanied it), SMEs are already in the process of closing their doors and laying off their employees.  

When SMEs have been forced to close their doors, the majority of them will not have enough cash to recover. The sad reality is that most will never re-open again after COVID-19 has been stabilized.  

The issue with SMEs being forced to close their doors is more profound than most people realise. Most SME owners have worked very hard to make the business function and have often put their life savings into the business and personally guaranteed its debts / obligations via the usage of the assets they have accumulated (homes, cars, boats and etc.) as collateral for lenders. Therefore, when the SME collapses it gets gruesome. At a high level here is what happens when SME’s collapse; 

The Impact on Employees 

Employees of the SME lose their jobs. Consequently, they are then forced to go out and find another job, or go on EI - which covers only a percentage of most family’s income in Canada. The challenge with getting another job is that when many SME’s are performing lay off or shutting their doors; the number of job postings dwindle and the competition for whatever jobs are available becomes higher, which invariably leads to decreasing wages (the law of supply and demand applies here).  

When enough people have lost their jobs and are living on substantially less income than they were used to it exacerbates the problem. Discretionary spending of any sort gets reduced or eliminated. In turn, this hurts SMEs once again. More alarming than this, is that many individuals collecting EI may no longer be able to afford the most necessary of their payments, such as rent / mortgages, credit cards and car payments. Even with the proposed deferral in debt and rent payments, EI simply may not be nearly enough. A deferral is helpful in the short-term, but the debt is still required to be paid back at some point in the future. At best those on EI will experience severe financial hardship and at worst this leads to personal insolvency and bankruptcy (more on bankruptcy below). 

The Impact on the Owners of SMEs 

When the business defaults, the owners of the SMEs are forced to cover any debts that they have personally guaranteed. As such, if they cannot cover the amounts owed, the owner of the SME is forced into bankruptcy. The owner will then be forced to forfeit their assets to the lenders who will then liquidate those assets in an effort to recoup their money. By doing so, the liquidated assets cause a potential imbalance in the market. The more of these liquidated assets (such as homes) that hit the market, the more pricing will plummet. When you combine this with less people who are employed and can afford to buy these assets, the more prices will invariably decrease.   

It is important to note that most small to mid-size business owners are not repeat entrepreneurs who pick themselves up from disaster and start again. Unfortunately, the majority of SMEs were founded by individuals who often saved up some money to start a business in an area they knew well because it offered more flexibility and perhaps the prospect of increasing their income. They did not start the business with some grand vision of becoming a conglomerate, rather they simply wanted to make some money and have something they could be proud of – to leave their own legacy. It can take years of savings to be in the financial position to start a business and one needs to be mentally and physically ready for the uphill battle associated with being a business owner. It is unlikely that most of these people will be able to start up the same business when the economy picks up again.  

The Impact on the Economy  

When SMEs fail and their employees lose their jobs, homes and livelihood, the economy takes a massive hit. Housing, as well as any sector directly impacted by discretionary spending will be the biggest casualties. 

Housing is the single greatest source of personal net worth for the average Canadian. When housing prices drop it will quickly evaporate much of the equity held in those homes and lead to many Canadian facing a situation where the value of their home is now less than the market price. As such, this is a big issue when Canada has according to the International Monetary Fund (IMF) one of the most overheated housing markets in the world.  At first glance, this may not seem alarming, however if you consider that during the great depression a house purchased in 1929 lost over 51% of its value by 19331. If this same situation were to apply to Canada today, the average home price would drop from $494,978 to $242,539. Today, most home owners are not sitting a position where they have more than 50% equity in their home. In addition to this, over 3 million Canadians have home equity lines of credits (HELOC’s), which are used to pull equity out of the house to buy cars, recreational products, second homes and etc. These reasons combined are what paints an extremely bleak picture of the outlook for the Canadian economy.  

Why the Canadian Government Stimulus Fails SME’s 

The Canadian government has implemented a myriad of solutions that look good on paper but have the potential of actually solving very few of the problems we are presented with in this situation.  

The $82B fiscal stimulus package is primarily comprised of tax payment deferrals, unemployment insurance worth (we all pay for this regardless), payroll support of up to 10% for SMES, $10B for business lending and an increased approval for banks to lend more money. The issues with this stimulus package are many, however the single biggest issue is that it does not address any of the issues of SMEs or business in general. Here are the shortfalls in the Canadian government stimulus package for SMEs; 

1.      Canada will provide up to $10B in emergency lending for Canadian businesses from Business Development Bank of Canada (BDC). This plan places the COVID-19 issues on SMEs to sort out themselves. After speaking with one of my contacts at BDC, I was told that any emergency lending would take on average one month to receive and would require personal guarantees from the applicant. In short, the Canadian government is asking business owners to borrow money, when they don’t have any money to repay the debt, all from a bank that is not designed to distribute funds at a rapid pace and to personally guarantee those funds should they default. This is idiotic. 

2.      Canada will provide up to 10% of the remuneration a SME pays for its employees between March 18th and June 20th 2020, and up to $25,000 in total per employer. While admittedly this is a start, it accomplishes very little for a SME that is experiencing a cataclysmic decrease in sales. In certain parts of the country, mandatory lockdowns for all non-essential services have been announced. These lockdowns, while necessary, will decimate many SMEs. This particular initiative is akin to trying to put out a forest fire with a garden hose. It is completely misguided.  

3.      Providing additional capacity for banks to lend to SMEs will also deliver no substantial value. Whilst the points I argue above still apply, another major issue is that lenders are designed to make money and are unlikely to relax their credit requirements and lending criteria. Therefore, even if it makes sense for a SME to borrow money for the sole purpose of staying in business; most businesses will find themselves being less desirable from a lending perspective and are unlikely to obtain lending from any lender they do not currently have a relationship with.  

In comparison to Canada, the UK government announced a staggering stimulus package totaling more than 15% of its GDP and over ￡330b ($551b CAD) in total. What is most notable about this stimulus, (which mirrors everything provided by Canada and more), is that the UK government is providing direct cash injections to small business via non-repayable grants between ￡10,000 and ￡25,000 to SME’s and directly paying up to ￡2,750 per month, which is equivalent to a standard wage, per employee directly from the UK government. By doing so, the UK government is ensuring SMEs can keep people employed while the country does what is needed to overcome this COVID-19 crisis.  

What Canada Needs to Do – A Proposed Solution 

The lack of action being taken by the Canadian government will be the demise of many SMEs, and may set this country on a disastrous financial trajectory that will impact us for generations. Similar to the actions proposed by UK, Canada should provide immediate support in the following forms; 

1.      Non-repayable grants to SMEs ranging from $10,000 to $50,000. 

2.      Cash assistance of up to $4,500 Canadian per month per employee for the duration of this COVID-19 crisis.  

3.      Issue a postponement on all debt and rent payments for a period of 6 months. This would need to be unilateral so any postponements that a landlord would observe would be passed through to tenants. 

If Canada can act quickly on these items, there may be hope for saving SMEs, and ultimately the Canadian economy. Without SMEs and the individuals that they employ, there is little hope of a turn-around in the economy once normal life returns after COVID-19. 

Please send this to your local government representatives and demand assistance.